Routine Reports Can Contain A Gold Mine Of Fraud Evidence

Many companies routinely generate mountains of reports. These documents are typically designed to monitor the overall performance of a department, region or subsidiary. However, to the trained fraud investigator, reports can sometimes provide a veritable gold mine of direct and indirect evidence of wrongdoing.

Consider the following situation that occurred at a U.S.-based pasta manufacturing company. The company's primary customers were upscale Italian restaurants nationwide. To collect on the restaurant accounts, the company engaged several collection agencies. In order to monitor the performance of their collection agencies, the company prepared a report that detailed the performance of each agency.

As part of an audit conducted by the pasta company's internal audit department, the accounts receivable department was asked to produce a detailed list of the reports prepared and reviewed by the department's staff on a daily, weekly, monthly and yearly basis. The list that the internal auditors received included the collection agency monitoring report. This particular report caught the interest of one of the auditors. He consequently asked for copies of the report to be produced for the last six months and was informed that for the last two months, the report production had been delayed.

Too Good to Be True?

Upon reviewing the report, the internal auditor noted that one of the agencies had consistently outperformed all other agencies by a significant margin. While the majority of agencies were able to recover between 12 to 20 cents on the dollar, the agency in question typically recovered between 50 to 75 cents on the dollar.

The auditor asked the accounts receivable employee who was responsible for preparing the report: "Why is there a difference in collection rates?"

The employee spoke very highly of the high-performing agency. It had initially been engaged to handle about 10 percent of outstanding receivables. But since its collection rates were so exceptional, the accounts receivable manager recently assigned an additional 15 percent of the pasta company's receivables to be collected by the agency. When asked why the collection agency performance report hadn't been produced for the previous two months, the auditor was told not to worry about it. He didn't need to see that report.

The internal auditor informed his manager of the conversation that he had with the accounts receivable employee. The internal audit manager, having conducted numerous accounts receivable department reviews, asked the auditor to review the accounts allocated to each agency in order to determine if there were differences in the quality of the receivables assigned for collection. He also asked the auditor to prepare a written analysis.

One week later, the internal audit manager met with the accounts receivable manager. The audit manager asked how and why the one collection agency was selected, and why the company had recently received an additional 15 percent of outstanding accounts. The receivables manager provided a detailed explanation of the selection process, the agency's performance to date, and the reasoning behind the assignment of additional collection balances.

On the surface, his explanations appeared to make sense. However, the receivables manager failed to disclose that he personally intervened in the selection of account assignments. In reality, the one collection agency was being allocated accounts that the pasta company would normally attempt to collect itself for at least six months before assigning to an outside firm.

Only a Matter of Time

Essentially, the collection agency was receiving accounts that had been "cherry picked' by the manager and not allowed to age within the pasta company's accounts receivable system. The manager's involvement was uncovered in a second interview when the audit manager produced a detailed analysis that clearly indicated the premature assignment of highly collectible accounts to the agency.

When confronted with the evidence, the department manager confessed to his role in a scheme to steer accounts to the collection agency in return for kickbacks in the form of cash and lavish entertainment. He also admitted to suppressing the last two months' reports because the difference between the high performing collection agency and the other agencies was becoming very noticeable. In his mind, it was only a question of time before someone started asking questions. He was later fired and the case was turned over to law enforcement authorities for further investigation and prosecution.

Lesson: The primary purpose of the pasta company's routine reports was to monitor collection agency performance, yet the internal audit team was able to use them uncover fraud. To highly skilled fraud investigators, there were indications of potential problems.

In suspicious situations, it is important to engage a trained fraud investigator to fully analyze potential problems. In this case, the collection agency report had been "hidden in plain view." Fortunately, the team of skilled auditors used indirect detection methods and uncovered the fraud before any additional damage resulted.

Disclaimer: The information contained in Dulin, Ward & DeWald’s blog is provided for general educational purposes only and should not be construed as financial or legal advice on any subject matter. Before taking any action based on this information, we strongly encourage you to consult competent legal, accounting or other professional advice about your specific situation. Questions on blog posts may be submitted to your DWD representative.